US-Iran diplomacy sends Oil prices tumbling as Euro maintains modest gains

• EUR/USD retains small gains despite a US Dollar rebound from earlier lows.
• Oil prices slide sharply following encouraging developments in US-Iran diplomacy.
• Additional interest rate increases may be necessary, ECB policymaker Peter Kažimír indicates.

The bullish tone in EUR/USD on Monday is not translating into strong upward momentum, with the US Dollar (USD) recouping some of its earlier losses. Traders are weighing fresh developments in the Middle East that triggered a sharp fall in Oil prices. Having touched a one-week high of 1.1237, the pair is trading near 1.1200 at the time of writing, a gain of 0.37% for the day.

Oil prices have fallen as diplomatic developments draw attention. According to ISNA, Iranian President Masoud Pezeshkian said the Supreme Leader had given the government certain powers relating to negotiations. Axios, meanwhile, reported that US President Donald Trump favours allowing more time for diplomacy with Iran. A decline of more than 5% on the day has left West Texas Intermediate (WTI) trading close to $96 a barrel.

Some inflation concerns have eased with the retreat in Oil, leaving US Treasury yields under pressure and likely limiting the US Dollar’s scope to rise. Caution also persists ahead of Tuesday’s US midterm elections. After touching an intraday low of 101.44, the US Dollar Index (DXY) is trading near 101.70, though it remains 0.25% lower on the day. The index measures the US currency against a basket of six major peers.

US manufacturing data exceeded forecasts, with the ISM Manufacturing PMI climbing from 54.5 to 55.5 in October against expectations of 54.6. By contrast, the Prices Paid Index declined from 77.9 to 75.2, coming in below the projected 77.0.

Friday’s Nonfarm Payrolls (NFP) release is another key focus as it could influence expectations of a December Fed rate hike. The CME FedWatch Tool currently puts the probability of such a move at 74%. Although policymakers remain willing to tighten further to return inflation to the central bank’s 2% target, a weaker jobs report could moderate rate-hike expectations.

Why is the Euro’s appeal subdued despite support from ECB guidance and France’s rating?

A compelling alternative to the USD is not assured, according to analysts at DBS Group Research. They caution that the Dollar’s recent fading momentum “does not automatically create a compelling case for the EUR.” In their view, “Europe’s fiscal and political uncertainties, particularly in France, and its vulnerability to elevated energy prices complicate the search for viable alternatives” to the USD.

Some concerns specific to the region have nevertheless eased. DBS observes that the Euro “did find support from the European Central Bank providing clearer guidance than the Fed on the prospects of a December hike and Moody’s affirmation of France’s Aa3 sovereign debt rating,” offering a counterweight to those worries.

October’s final HCOB Manufacturing PMI for the Eurozone stood at 52.7, exceeding both the preliminary estimate and the forecast of 52.4. On Monday, ECB policymaker Peter Kažimír said, “The question is increasingly not if further ECB action is needed but how much.” He also warned, “Markets may still underestimate what path is required.” According to Reuters, traders expect two to three ECB rate hikes over the coming year.